In a world where the cost of employing staff is ever increasing, Kieron Batham-Tomkins, Senior Tax Manager at BHP, takes a look at incentivising employees via shares through the use of an Enterprise Management Incentive (EMI) scheme.
In part one of this blog series, we’ll cover what an EMI scheme is and the benefits an EMI scheme can bring for business owners and their employees.
Firstly, what is an EMI scheme?
An EMI is an HMRC-approved, tax-efficient share scheme designed to help smaller companies recruit and retain key employees that may not have the funds to do so via salaries and bonuses. EMI schemes are a very flexible and tax-efficient way to incentivise employees through shares.
The scheme works by incentivising key employees (including directors) by granting them options i.e. the right to acquire shares in the company in the future at a price agreed at the time the options are granted – “the exercise price”.
Due to the flexibility of EMI schemes, they can be designed in a unique way for your company and the goals you want to achieve. You can decide how and when share options can be exercised, such as only if certain turnover or profit targets are met, or if a sale takes place. EMI schemes therefore incentivise staff to work collaboratively to hit targets so they can obtain their rewards.
What are the employee benefits?
There is no upfront cost for the employee as, at the date options are granted, no Income Tax or National Insurance liabilities will arise.
When the ultimate exercise of the share options takes place, the employee will pay the exercise price agreed at the date of grant for the shares.
As long as the exercise price paid is equal to or greater than the original market value at the date the option was granted, no Income Tax or National Insurance liabilities will arise.
On the final sale of the shares, the employee is required to pay Capital Gains Tax (CGT) on the gain made, however if shares are sold more than 24 months after the original grant of options, Business Asset Disposal Relief (BADR) can apply, giving a tax rate of only 10% on the gain up to £1m, and 20% thereafter. The employee can also own less than 5% of the share capital to take advantage of BADR, an exception to normal BADR rules.
On an exit-based option, shares are held for a matter of seconds, meaning all the benefits are achieved without having to personally finance the exercise price of the shares.
What about the employer benefits?
As is the case for employees, where EMI shares are exercised at or above the original value at the date of grant, no National Insurance liabilities arise for the employer.
At the date of exercise, the company receives a Corporation Tax deduction equal to the difference between the amount paid by the employee and the market value of the shares at the date of exercise i.e. the value uplift.
As noted above, commercially, employees with options are motivated to achieve their rights to exercise.
Provisions for good and bad leavers can also be written into the option agreements so that only those employees who continue to work for the company continue to have the right to exercise. As well as the tax incentives, this can contribute to the retention of key employees.
Take a look at this example of how an EMI scheme works.
If you have any questions about EMI schemes, please get in touch with your usual BHP contact or call Kieron Batham-Tomkins on 0333 123 7171. Part two of this blog series will focus on the criteria you need to meet to qualify for an EMI scheme.
